Indicator Type: Trend Following
Introduction:
The moving average, or simple moving average as it is commonly referred to as,
represents the average of the last several closing prices. The moving average
is simple to compute, easy to understand, and reliable under tests. This
simplicity is the strength of the moving average.
The basic moving average is computed exactly the same as any other mathematical average. The most common way of determining the moving average of a market is to take the closing price over a certain number of days add them together and then divide by the select number of days.
Interpretation:
Generally, moving averages are thought to be indicators of trend. For example,
conventional interpretation is that once prices cross from below the moving
average to above it, the trend is considered up.
On the other hand, if prices go from above the moving average to below it, the trend of the market is considered down.
The purpose of the simple moving average is to track the progress of the trend. Moving averages keep you in the trend for potentially a long time. The moving average gives you an indication of the trend being up (prices above the moving average) or down (below the moving average). However, the moving average gives you no indication of the length or duration of the trend.
Double Moving Average
Indicator Type: Trend Following
Introduction:
Double moving averages use two different averages in tandem. The first
average is generally a faster reacting average using a shorter period of time,
usually 10 days. The second average is a slower reacting average that will
indicate longer-term price movement.
Using these two averages together helps to alleviate “whipsaws” by giving a
basis of comparison. The faster average breaking above the slower average is a
buy signal, the faster average breaking below the slower average is a sell
signal.
Interpretation:
When using two different moving averages the trader gets a clearer picture of
price indications. By combining a slower moving average, 20-day average, with a
quicker reacting average, 10-day average you can see where the long-term
indications are going.
The trend being your friend, until it ends, you would sell once the faster
moving average crosses below the slower trend because that is an indication of
change in trend. Near term prices should be rising at a greater rate than longer
term prices in a good upward trending market, and vice versa for a down trend.
Triple Moving Average
Indicator Type: Trend Following
Introduction:
The system of triple moving averages is employed by plotting three different
moving averages together. The first of these averages is a faster average that
only looks at the short-term price direction. The second average is a medium
average that reacts to a longer period of time, but not as long as the final
average. The third average is the slowest to react, because it takes an average
of the longest period of time.
Interpretation:
A 10, 20, and 40 day moving average system would be considered a triple moving
average. The first average, the 10-day, is the quickest to move when prices show
a change. The second average, the 20-day, is the medium average that does not
show change until the prices have moved for a longer period of time. Finally the
slowest moving of the averages is the 40-day. This slow average will not
indicate a difference until prices have made a significant move. Shorter-term
moving averages being more sensitive to changes in price are said to follow the
trend more closely. The middle or medium average would follow less close and the
slowest or least sensitive average would lag the most.
The use of the triple moving average is to buy when all three averages move to
be in an upward trend or to sell when these averages are in a downtrend. The
upward trend appears when the fastest average is higher than both of the other
averages, the medium is above the slowest, and the longer term moving average is
on the bottom.
This look would be reversed for a strong down trend with slow average on top,
followed by the medium average, and the fastest on bottom.